We are encouraged by the unchanged final dividend of 14.5 UScts; which took total CY17 dividend to 21 UScts despite a weaker financial position.

A strategic review, especially for SEA, is still underway, helmed by the new CEO Ian McLeod who joined in Sep 17.

Downgrade to HOLD from Add as the ongoing strategic review may take time to bear fruit. This report marks a change in analyst coverage.

FY17 core net profit only up 1.6% y-o-y

Dairy Farm International's CY17 sales (US$11.2bn) grew by a meager 0.8% whilst core EBIT (excluding one-off costs of US$72.8m) narrowed by 3.9% y-o-y. The main culprits for the lower revenue and EBIT were the SEA supermarket and hypermarket businesses.

Bottomline was mainly held up by stellar associate earnings that chartered 22% y-o-y growth; largely due to the performance at Yonghui. As at end-2017, stores (including associates) increased to 7,181 vs. 6,458 in CY16.

Sluggish food division dwarfs growth in other divisions

The food division sales and EBIT (ex. one-off charges) narrowed by 3.2%/30.3% y-o-y, hit by poor performances in the super/hypermarket in Malaysia, Singapore and Indonesia. As such, some underperforming stores were closed and it wrote off slow-moving stock.

At c.50%/31% of revenue and EBIT, the weakness in the food division dwarfed the gains in other divisions which saw revenue/EBIT growth of 5.8%/18%, led by the convenience (HK, China, Macau) and health and beauty (HK, Indonesia, Vietnam) segments.

Priorities: growth in China, revitalise SEA and defend Hong Kong

The new CEO - Ian McLeod shared his five strategic priorities. He shared that there needs to be greater balance in central and local control management, and consistencies with regards to operational approaches adopted in each business.

Post the success of Yonghui and Maxim’s, growth of its China business is integral. Given the existing strong market share in Hong Kong, it needs to optimise range and price architecture to solidify its presence.

For SEA, the strategic review continues and leadership recruitment is underway.

Associates likely key to near-term growth

We foresee Yonghui and Maxim’s being key to net profit growth in the near term.

In CY17, Yonghui opened net 292 new stores in mainland China. Maxim’s saw stellar sales and profit growth, largely due to strong performances from its branded products, particularly mooncakes, and its business in mainland China.

We forecast associate earnings to grow by 10.5%/10.5%/4.5% in CY18/19/20F.

Change takes time; downgrade to HOLD

We downgrade our call on the stock to HOLD from Add, with a lower Target Price of US$8.40 (from US$9.18) on a lower PER of 21x (from 23.7x), close to -1s.d. of its average mean as we roll forward to CY19 EPS. The lower PER is because we believe it may take some time to bear fruit from the ongoing strategic review in CY18.

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